Submitted by nsscadmin on
The calendar has flipped over to a new year, so Canadians will begin to think about their annual tax return. For Canadians that invest there are a few tax areas they need to remember to include in their filing. As we do every year when the calendar rolls over, we’ll take a closer look at three things from their investments they shouldn’t forget about.
- Contributions to an RRSP account
- Capital gains made outside a registered or tax-free account
- Dividends received outside a registered or tax-free account
Contributions to an RRSP account
When you contribute to your RRSP, the amount you contribute is deducted from your taxable income. Here’s an example of how this works. Let’s say your taxable income is $50,000 and you make a $5,000 contribution to your RRSP. This will reduce your taxable income to $45,000. This means that you will owe taxes on a smaller amount and may set you up for an income tax refund.
Capital gains made outside a registered or tax-free account
In Canada, 50 percent of your capital gains are taxable, also known as the inclusion rate. Many people are confused when they hear this and believe they will pay 50 percent of what they have gained as tax. That is not how capital gains tax works. From example, if you sold an investment for $1,000 which you originally purchased for $500, you have made a $500 capital gain. Only 50 percent of that gain, or $250, would be included as income for the year. How much tax you end up paying on that included capital gain depends on which tax bracket you fall under.
One other common area of confusion around capital gains and taxes is that only realized capital gains are taxed. To explain what this means let’s look at our example again. The securities you purchased for $500 have increased in value and are now worth $1,000. The capital gain of $500 is not realized until you sell the securities. A capital gain that has not yet been realized does not need to be declared on your taxes.
Dividends received outside a registered or tax-free account
Dividends that are earned from securities are taxed differently than capital gains. Typically, dividends are taxed at your marginal tax rate which is typically more than the capital gains tax rate.
In Canada, dividends that are received from taxable Canadian corporations may be eligible for the dividend tax credit. Corporations designate their dividends as eligible or other than eligible. The tax rate for the two differ. This designation can be found on your tax slips.
When you prepare your annual tax return, you declare the grossed-up amount of your dividend income from the year as part of your overall annual income. To offset the higher amount you have declared, you may receive a tax break on your dividend income through the dividend tax credit. The tax credit is determined by federal and provincial tax rates, which are dependent on which province or territory you reside in.
If you are paying tax on capital gains, dividends or some other form of investment income, be sure to discuss them with your adviser and a tax expert to ensure you are paying the correct amount of tax and taking advantage of any tax credits or breaks that may be available to you.